De-risking in trade finance: time to act

De-risking in trade finance: time to act

As financial authorities express concern about de-risking in correspondent banking, a similar phenomenon is emerging in trade finance, driven by the high costs of KYC compliance.

There is a danger that some banks in some regions, such as Africa, will have difficulty connecting to the trade finance world. Banks need to collaborate to help corporate clients to connect with their customers and address the still unsatisfied demand for international trade services.

De-risking is a hot topic in the cash clearing universe as some correspondent banks withdraw from certain countries, currencies, or products to control costs and risk. At the same time, de-risking is becoming a phenomenon in the trade universe for the same reasons.

Banks’ correspondent relationships are conducted via Swift’s global network, which numbers 11,000 banks in 200 countries. Via Relationship Management Application (RMA) keys, banks can connect with each other. The RMA is a Swift-mandated filter that enables financial institutions to define which counterparties can send them FIN messages. Any unwanted traffic is blocked at the sender level, reducing the operational risks associated with handling unwanted messages and providing a first line of defence against fraud. RMA Plus, a more granular version of RMA, goes one step further by letting institutions specify which message type(s) they want to receive from, and send to, each of their counterparties.

At present, there are around 2.8 million RMA keys – active and inactive – within the Swift community, out of which around 40 per cent have not been used during past months. Société Générale, for example, has around 40,000 RMA keys out of which 28,000 are active. Regular clean-up of the stock needs therefore to be performed for more efficient monitoring.

The RMA keys enable banks to open channels with each other in a relatively easy and straightforward way on the Swift network – from a technical angle, the banks just need to agree with each other that they will use a RMA key. However, even if a channel is technically open, it would not be used for FIN messages unless a full know your customer (KYC) procedure is executed by each partner on the other and, as the case may be (high-risk country, for example) further authorisation as required from banks’ compliance departments are obtained. It is not enough for the door to be open; to pass the threshold, specific authority must come from within
the bank.

The costs of maintaining KYC for each key is currently estimated in a range of $20,000-70,000, depending on the institution. KYC and compliance costs in trade finance may be a level above those in cash clearing as financial regulators and compliance officers tend to regard trade finance as a specifically risky business from an anti-money laundering and counter-terrorist financing perspective.

In cash clearing, a bank requires only one partner bank to execute payments in a particular currency for a specific flow. A bank active in trade finance however, needs active relationships with many banks around the world in order to provide a variety of international commercial activities to its customers. The intensity of the network in trade finance is much greater than in cash clearing.

Globally, trade finance banks are reducing the number of active RMA keys to reduce KYC costs. As in cash clearing, this could have an impact on banks and their clients in some regions, specifically in emerging countries and for SMEs. While banks such as Société Générale will generally find a bank to trade with in countries where customers need it, some banks based in certain regions, such as Africa, increasingly have difficulty in finding a global or large regional bank to connect with them on trade finance. The de-risking in trade finance means some countries may have more difficulty connecting with the outside world.

Furthermore, the large regional and global banks will focus on where the best business is, trading with customers that have a more regular flow of trade and are deemed safe. Companies that perhaps do only a handful of trades per year, or a small, opportunistic business that wins a one-off export deal may struggle to find bank partners to access the overseas financial system.

The impact of de-risking in trade finance is not yet critical, but it is a topic that the ICC and Swift are aware of and that an institution like the International Finance Corporation is highlighting. Suggested actions include:

• Lobbying regulators for a better alignment of KYC requirements across jurisdictions. (Today, a bank with a large network like Société Générale may need several specific KYC for the same counterpart because of diverging regulatory requirements among countries)
• Pushing banks to use Swift’s KYC Registry
• Streamlining and reducing KYC costs within each bank through better organisation, implementation of digitalised processes, etc
• More collaboration between banks, particularly large regional banks that could work together to help corporate clients to connect with their customers and do business.

By Agnès Joly, global head of trade finance, Société Générale

This article is also featured in the Daily News at Sibos 2017 – Day 2 edition. 
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